Credit Spreads Return From a Trip to Fantasyland
Junk bond and equity risk premiums show banking turmoil could have a lasting impact on investor psychology.
Scars from banking turmoil are likely to linger.
Photographer: Spencer Platt/Getty Images
Investors have realized that interest rates aren’t the only risk in markets. Now that the genie is out of the bottle, the future looks increasingly perilous for stocks and junk-rated corporate credit, with hazards coming from two directions at once.
In some ways, what’s shocking is how long it took to get here. As recently as last week, option-adjusted spreads on US high-yield bonds were just 389 basis points above Treasuries. Not only is that non-recessionary, but it’s well below the average for the 10 years before the Covid-19 pandemic. For their part, equity risk premiums — in some ways the other side of the same coin — fell recently to levels so stingy that Morgan Stanley strategists dubbed them the “death zone.” All things considered, risk markets looked somewhat indifferent to the growing earnings risk and downturn odds.